Returns On Capital Signal Tricky Times Ahead For Alarm.com Holdings (NASDAQ:ALRM)

To find a multi-bagger stock, what are the underlying trends we should look for in a business? Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing amount of capital employed. If you see this, it typically means it's a company with a great business model and plenty of profitable reinvestment opportunities. Although, when we looked at Alarm.com Holdings (NASDAQ:ALRM), it didn't seem to tick all of these boxes.

What Is Return On Capital Employed (ROCE)?

Just to clarify if you're unsure, ROCE is a metric for evaluating how much pre-tax income (in percentage terms) a company earns on the capital invested in its business. Analysts use this formula to calculate it for Alarm.com Holdings:

Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)

0.054 = US$66m ÷ (US$1.4b - US$172m) (Based on the trailing twelve months to September 2023).

So, Alarm.com Holdings has an ROCE of 5.4%. Ultimately, that's a low return and it under-performs the Software industry average of 7.6%.

Check out our latest analysis for Alarm.com Holdings

Above you can see how the current ROCE for Alarm.com Holdings compares to its prior returns on capital, but there's only so much you can tell from the past. If you'd like, you can check out the forecasts from the analysts covering Alarm.com Holdings here for free.

So How Is Alarm.com Holdings' ROCE Trending?

In terms of Alarm.com Holdings' historical ROCE movements, the trend isn't fantastic. To be more specific, ROCE has fallen from 17% over the last five years. On the other hand, the company has been employing more capital without a corresponding improvement in sales in the last year, which could suggest these investments are longer term plays. It may take some time before the company starts to see any change in earnings from these investments.

The Key Takeaway

Bringing it all together, while we're somewhat encouraged by Alarm.com Holdings' reinvestment in its own business, we're aware that returns are shrinking. And with the stock having returned a mere 30% in the last five years to shareholders, you could argue that they're aware of these lackluster trends. Therefore, if you're looking for a multi-bagger, we'd propose looking at other options.

Alarm.com Holdings does have some risks though, and we've spotted 1 warning sign for Alarm.com Holdings that you might be interested in.

While Alarm.com Holdings may not currently earn the highest returns, we've compiled a list of companies that currently earn more than 25% return on equity. Check out this free list here.

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This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in any stocks mentioned.